Contrarians at the Gate

"I just flew in from Davos and boy are my alms tired." Such was the theme of January's World Economic Forum, where a keynote address from Bill Gates on corporate philanthropy became one of the touchstones of the annual event.

Less noticed was the release of a landmark study on the effects of private equity, which took a detailed look at job loss, long-term management strategies, and other aspects of operations.

The long-simmering debate as to whether PE firms, in the aggregate, force workers into the unemployment line or have them queuing up to win new jobs in reinvigorated companies can perhaps be put to rest. The study found that the caricature of PE executives as greedy overlords who happily send workers packing in pursuit of short-term gains is vastly overstated. Companies acquired by PE firms do reduce the workforce more than other companies, but only marginally. In fact, more workers are likely to be laid off as a company heads toward a buyout than after it. The study, led by Harvard Business School's Josh Lerner and the University of Chicago's Steven Davis, found that companies cut about 4 percent of their workforce in the two years preceding a buyout, most likely in response to mounting problems.

The study looked at 5,000 private-equity deals over a 25-year span (1980–2005), a far broader sample than those of past studies. "There's been so much inflated rhetoric on each side," Lerner says. "This may help move the discussion from one based on emotion to one based on facts and figures."

As to whether PE executives manage for the long or short term, the study looked at how companies managed R&D as evidenced by patent filings. The result: PE managers do take a long-run approach, but bring more focus to innovation, with an emphasis on core technologies. Acknowledging that patent filings may not be a perfect proxy for long-term management philosophies, Lerner says that "[to some extent] we were like drunks looking for our keys under the streetlight, simply because that's where the light is," but says that the importance of focus can't be overstated. "The $64,000 question that many managers have is, 'How can we run the company as though it were in the hands of a PE firm, so that it doesn't have to be?' One answer is that it is very hard to inject a spirit of urgency, even if you are aware of your company's problems." PE firms can take a crisis-management approach that incumbent management often cannot.